The First Residential Mortgage--Backed Securities Surface in China

 

The State Council’s approval in February 2005 to launch the residential mortgage-backed securities (RMBS) pilot in China Construction Bank (CCB) draws wide attention from the media which also shows great interest in the bank’s implementation plan and the pilot progress. On June 14, CCB held a meeting to unveil the first RMBS in China. Finally RMBS surfaces in the country.

At the meeting held in Beijing, CCB introduced the basic plan of RMBS to the institutional investors and asked their opinions on the form of interest rate, layer and rating of securities and investment intention. Representatives of the regulatory authorities and over 10 players in the inter-bank securities market attended the meeting.

As the first Chinese commercial bank issuing individual mortgage loans, CCB stores the biggest amount of historical data on that business and is a leader in developing the standard technologies of providing individual mortgage loans, after-loan service, operational processes, information system and risk management among its domestic competitors. CCB is also the first domestic commercial bank making researches on RMBS and has completed many studies on the policies, mechanisms and business innovation related with the product. After reviewing, comparing and summarizing the asset-backed securities (ABS) models of different countries, the bank initiated the RMBS transaction structure suitable to China’s specific conditions and in compliance with current domestic laws and regulations, finished the relatively mature technological design from scrutinizing loans, setting up the pool of loans, establishing trust, design and issuance of beneficiary certificates to the concentration of cash flow and payment, and developed the first ABS information system.

Since the payment of principal and interest of RMBS is mainly decided by the future cash flow generated by the underlying assets, the quality of the underlying assets draws special attention from the investors. To ensure the success of the first RMBS in China, CCB especially selected three branches in Shanghai, Jiangsu and Fujian to implement the pilot project. It established strict standards when selecting the existing residential mortgage loans of the three branches to be put into the pool so as so ensure the high quality of the underlying assets. Meanwhile the bank promises to repurchase those unqualified loans.

CCB disclosed that the ABS transaction structure which is a big concern of the investors is decided by the bank together with leading Chinese and foreign investment banks, law firms, accounting firms and rating agencies. Within the transaction structure the trust is the SPV of securitization and serves as the channel of “bankruptcy remoteness” and “true sale”. The trustee has no access to cash and the principal and interest paid by the debtor is directly transferred by the service provider to the trust account opened in the trustee bank. Entrusted by the trustee, the transaction manager, according to the transaction contract, issues instructions to the trustee bank to operate the capital, pay related taxes and fees as well as pay the investors the principal and interest through the China Government Securities Depository Trust & Clearing Co. Ltd. As agreed earlier the decision-making right should be exercised by the investors’ meeting.

CCB first of all will design different layers of RMBS for credit enhancement. It will hold the secondary securities (or transfer them to potential investors). Any loan losses should be taken by the secondary securities holder so as to enhance the credit of the primary securities. The bank’s RMBS pilot intends to invite leading Chinese and foreign rating agencies to jointly make the rating, which will have a positive influence on the growth of China’s ABS market.

The major legal problems of ABS can be handled in compliance with the Trust Law and the Contract Law, and other supporting laws and regulations are also under formulation. According to CCB, related government authorities attach high importance to the RMBS and a number of ministries have jointly set up the credit asset-backed securities pilot coordination group which has conducted many studies on the policies and business innovation related with ABS and clearly defined the requirements on formulating and enacting various ABS supporting systems, laws and regulations. The Management Rules on Credit Asset-Backed Securities Pilot released recently provides the system guarantee for the standardized operation of the ABS business.

Today the preparations for the RMBS of CCB are well underway and it is estimated that the first RMBS will be launched before the end of this year, with different classes, repayment dates, cash flow structure, earnings ratio and risks. The institutional investors can select the RMBS at different levels to comply with their assets and liabilities structure.